Investing in Mutual Funds With Low Fees

I just inherited $100,000 from my dad's estate. I would like to invest it in mutual funds, but will I always have to pay an annual fee of 1.25% for a management fee? Where do I invest, or can I invest so I'm not paying this out every year?

-Sandy Saving

Dear Sandy,

Inheritances often come at a steep price: the loss of a loved one. I'm sorry for your loss. Trying to reduce the drag that fees and expenses have on investment returns is a smart move, and there are ways to manage them when investing in mutual funds.

There are different types of asset management fees. If you're working with a financial services professional, they may have a compensation model called assets under management, or AUM, in which you pay a percentage fee based on the size of the portfolio. It's important to realize that your financial services professional needs to be compensated for his or her work, and that there are different compensation models besides AUM, and these models may be more or less expensive than AUM. Take a look at an earlier column, "How a financial planner is compensated," for more depth on the topic. One aspect of compensation models that is getting more use since that column was written is the idea that the professional should be compensated based on assets under advisement, or AUA, if the professional is advising you on other assets, such as your 401(k) account, that they don't manage internally.

If you're a do-it-yourselfer when it comes to managing your portfolio, you aren't using the advice of a financial services professional, and you can avoid paying their AUM/AUA fees. For many investors this results in establishing accounts directly with a mutual fund family, ideally a no-load mutual fund family, meaning there are no sales loads (commissions) paid on the investments. Even no-load funds, however, may have a 12b-1 fee for mutual fund distributions. The Securities and Exchange Commission, or SEC, is in the process of finalizing a proposed rule concerning 12b-1 fees. Alternately, the do-it-yourselfer can look at establishing a brokerage account with an online or discount broker to purchase their mutual funds.

Aside from marketing fees, you'll pay a percentage fee for the mutual fund's investment management and administration. Reviewing a mutual fund's prospectus prior to investing in the fund will explain the fee structure of the fund, including any annual account service fees.Exchange-traded funds, or ETFs, are an alternative to mutual funds. They trade intraday, unlike mutual funds, and you may pay a brokerage commission on the shares along with any investment management fee charged by the fund.

Generally speaking, index funds have lower expense ratios than actively managed mutual funds. Large capitalization funds have lower fees than mid-cap or small-cap funds and international funds, especially emerging market funds that have higher expense ratios. A no-load indexed mutual fund, especially one in a broad-based index, should have very low annual expense ratios.Get more news, money-saving tips and expert advice by signing up for a free Bankrate newsletter.

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